Esprit’s 68% Discount Signals Cheapest Apparel Buyout: Real M&A

Esprit has plummeted 93 percent from its high in October 2007, leaving it valued at HK$8.50 a share yesterday. Photographer: Jerome Favre/Bloomberg

Sept. 28 (Bloomberg) -- No apparel retailer in the world is
offering potential buyers a bigger discount on a billion-dollar
deal than Esprit Holdings Ltd.

Once a $20 billion company, Esprit plummeted more than 90
percent in the past four years as Hennes & Mauritz AB and
Inditex SA’s Zara lured away customers and prompted the retailer
to say its brand “lost its soul.” Esprit, valued at just $1.4
billion yesterday, sold for 32 cents per dollar of revenue,
cheaper than any apparel company after falling to its lowest
valuation this week, according to data compiled by Bloomberg.
Today, the stock surged the most in almost three years.

While Esprit is mired in its worst ever earnings slump, the
brand alone may still be worth twice as much as the company
itself, according to WPP Plc’s Millward Brown Optimor. With Hong
Kong-based Esprit betting on China to boost flagging demand and
its equity valued at a record discount to both cash flows and
net assets, the clothing retailer may now attract private equity
buyers seeking to turn it around, according to Jyske Bank A/S.

“It is still a very well-known brand,” said Gabriel Chan,
an analyst at Credit Suisse Group AG in Hong Kong. Private
equity could “take over the company and restructure the company
in a more sensible way. It is still worth something. It’s a
matter of how they rejuvenate the brand,” he said.

Patrick Lau, a spokesman for Esprit, declined to comment on
whether it is considering a sale or has been approached about an
acquisition.

‘Lost Its Soul’

After reporting a record HK$6.45 billion ($827 million) in
net income for its year ended June 2008, earnings have slumped
in the each of the past three years as competition from H&M and
Zara intensified.

“The brand has gradually lost its soul over the past few
years,” Esprit’s Chief Executive Officer Ronald Van der Vis
said in the company’s earnings statement on Sept. 15.

At the time, Esprit said full-year net income plunged 98
percent, hampered by costs to close stores and sell its North
American operations. Sales also stalled as consumers in Europe,
its biggest market, cut back on spending in the face of an
economic slowdown in the region, Esprit said.

H&M and Zara, which also rely on Europe for most of their
revenue, have fared better. While Esprit’s sales have stagnated
in the past three years, analysts estimate that Stockholm-based
H&M will increase 25 percent this year versus 2008.

Zara’s parent, Arteixo, Spain-based Inditex, has increased
revenue by a third in its three-year span, helping the stock
more than double to a record this week.

H&M, Zara

“They totally lost their way after H&M and Zara came up
and took over a big part of their market,” said Tan Yew Boon, a
Hong Kong-based money manager at KGI Group, which oversees about
$5.9 billion in assets. “Esprit was the brand to aspire for
because it was like H&M.”

Esprit had plummeted 93 percent from its high in October
2007, leaving it valued at HK$8.50 a share yesterday. The shares
climbed 12 percent to HK$9.55 today, the biggest gain since
December 2008. The advance was the largest for any company in
the 1,632-stock MSCI World Index, outside of Alpha Bank’s 13
percent jump, data compiled by Bloomberg show.

In the past year, Esprit had declined more than any other
company in the MSCI World except Tokyo Electric Power Co., which
owned the nuclear plant in Fukushima, Japan, that caused the
worst atomic disaster since Chernobyl.

Esprit is “small enough for a debt-backed bid,” said Anne
Critchlow, an analyst at Societe Generale SA in London. “It
would be a financially feasible deal, but a highly risky one.”

Relative Value

At yesterday’s close, Esprit was valued at 0.32 times its
sales, versus the median 1.33 times for 50 apparel retailers
with at least $1 billion in market value. Shares of H&M and
Inditex both trade at more than 3 times revenue.

Compared with cash flows, Esprit’s stock slumped this week
the lowest level since at least the end of 2002, while the
company also traded at the biggest discount to its assets minus
liabilities in at least 16 years, the data show.

Robert Jakobsen, an analyst at Jyske Bank in Silkeborg,
Denmark, estimates that Esprit has a so-called fair value of
HK$24 a share, or about $4 billion for the entire company, based
on his discounted cash flow analysis. That’s almost three times
its current market capitalization.

“It’s so cheap that it might have buyers stepping up,”
said Alvaro Shiraishi, a Denver-based vice president of Cambiar
Investors LLC, which oversees about $8 billion. “The
adjustments they need to make are probably better done when you
are not under scrutiny of a public company.”

Cost Benefit

To turn the company around, Esprit’s Van der Vis plans to
more than double sales in China, the world’s most populous
nation, in four years. In the year ended June, it had HK$2.68
billion in revenue from China, Esprit’s fastest-growing market.

Esprit also intends to spend HK$6.8 billion on branding
over the next four years, focusing its efforts on China and
parts of Europe, according to a company presentation. Almost
one-third of its marketing will be directed to China.

“We have to be realistic -- China is our future, not North
America,” Van der Vis said in an interview this month.

While the cost to rebuild Esprit and expand in China may
limit profitability and deter potential buyers, the value of the
brand itself may make it worth the risk, according to Credit
Suisse’s Chan.

Esprit’s brand is valued at $3.4 billion, equal to Polo
Ralph Lauren Corp.’s Ralph Lauren and more than twice as much as
Esprit’s equity value, according to an annual report released in
May from Millward Brown Optimor, a unit of WPP, the world’s
largest advertising company.

“Despite all the problems Esprit has just now, the stock
has become so cheap that it wouldn’t surprise me to see a
private equity firm or another buyer looking at it,” said Jim
Nelson, who helps manage $500 million, including Esprit shares,
at Euro Pacific Asset Management in Newport Beach, California.
“Future success will hinge on the company’s ability to turn the
brand around and successfully grow the Asian business.”